When it comes to investing, I’ve already spoken about the dangers of becoming overconfident. When your investments are doing well, it’s easy to develop hubris in your investment abilities, and to ignore your long-term plan in order to chase short-term success.
While you probably know that excess confidence is dangerous for long-term investment success, what you might not realize is that this emotion is contagious. Read on for more on this cognitive bias, and how to avoid it:
How confidence is contagious
New studies released by the Journal of Neuroscience have found that when it comes to making decisions, the confidence of others can drastically affect the choices you make. Their experiments revolved around the random drawing of marbles, where the test subjects were asked to guess the color of the next one.
People weren’t only much more likely to guess a color if others picked it – their entire brain functions for decision-making were altered. Studies like these go to show that confidence isn’t only contagious; it can also drastically affect how you make decisions.
How it can affect your investing decisions
The fact that confidence can spread might be beneficial in certain situations, but in investing, the spread of this cognitive bias can prove to be dangerous. No one can predict with one hundred percent certainty whether an investment will go down or up in the future. However, tune to any news channel, and you’ll eventually hear media figureheads exclaim how an investment is sure to do just that. Although timing the market and making concentrated investment bets rarely works, the confidence that talking heads express in the media can lead you to believe otherwise.
How to avoid it
When the confidence of others tempts you to make investment decisions, you should pay attention to your long-term goals. By examining concrete goals (like having one million dollars for retirement) you’ll hopefully realize how knee-jerk altercations to your plan can lead you astray. Ultimately, what can threaten the growth of a well-diversified portfolio over time is not market fluctuation, but the tendency to shift strategy by letting emotion overwhelm logic.
At LexION Capital, we base our investment decisions strictly on the math and science of the markets. If you’d like to learn more about our rational approach to investing, start a conversation with us today.